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Insight EM : Trouble Ahead

The market as we know it will collapse

There is evidence suggesting that the beginning of a collapse of emerging markets that could threaten the stability that has been enjoying the world economy since March. “The pillars that supported the rise of the markets seem to be falling apart, as risk conditions have turned and have begun to expose weak fundamentals and structural imbalances in Emerging Markets, once again,” say analysts at Morgan Stanley in a research note titled “the Big Bounce is finished.”

Remember what happened in February?

“That’s when the markets went crazy and analysts predicted the end of days,” says Linette Lopez in Business Insider. “Markets rose every morning with the bad news of a decline in the Chinese yuan, causing a collapse of markets in Shanghai and Hong Kong. Stirring is spread through Asia, then Europe – London, Frankfurt, Germany – and finally to Wall Street traders, surprised to live in a world where the Chinese currency was so important.

Because of low prices of raw materials and  a strong dollar, there was no economy to suffer as much as the emerging markets did, and capital outflows were one on the consequences

However, gradually the money started to come back again thanks to the weak dollar. In addition, prices of raw materials and the yuan stabilized, and the Chinese government approved more stimulus at the end of the month.

The problem now is that most of these trends are being reversed.

“The strong trend of the US dollar has resumed, and the Chinese data deteriorate and the Fed ready to raise rates in the short term, two of the key pillars that supported the rebound from February to April are now decreasing. The oil has remained strong, good relative strength, but if supply constraints vanish, would become a key risk factor. ” Lopez summed up.

Economic  Cycles are getting shorter 

The growth model for the developed world is exhausted and for emerging markets is being polluted, “said Mohamed El-Erian, chief economic adviser Allianz earlier this month.

El-Erian was expressing his view that global economic stability would not last. As for emerging markets, the growth model can no longer rely on the booming of Chinese demand – can not even rely on the Chinese stability.

After pushing measures to stimulate the economy to avoid the worst scenario, the Chinese government has begun to backtrack. Another group of analysts at Morgan Stanley is close watching the country’s property market, which saw a strong recovery thanks to government stimulus.

But then industrial production and lending slowed in April. The index of purchasing managers in the country also gave us a clue that this rally would not last.

Meanwhile, the yuan has fallen to a three-month low on fears that the US Federal Reserve to increase interest rates on June 15.

We are not saying that things will go wrong, what we say is that we will witness greater turmoil in emerging markets, and we now know that could have repercussions worldwide.

However, two factors now keep markets stable. On the one hand, oil prices appears to be stable at a price that is painful for producers – including Nigeria, whose economy is heading towards a crisis – but at least is not totally crashing the markets.

The second factor is that the world has in its favor the stability of the Chinese yuan, and now we have reason to believe that receive government support.

Why do we know it? In November, China was admitted to the special club of world reserve currencies, the basket of Special Drawing Rights. To enter the club, China had to allow its currency to move according to market forces.

However, according to a report in The Wall Street Journal, this has not been the case. The leaked minutes of meetings with Chinese economic authorities show that President Xi Jinping is more interested in maintaining stable economy that modernize and reform.

So maybe the government has continued fixing the yuan.

We should also note that  a new danger has entered this contest: Brazil, the world’s seventh largest economy. So far the actions of the country have remained stable, despite the country’s recession. The markets liked the ouster of President Dilma Rousseff and the Brazilian stock index, the Bovespa, has risen 14% so far this year.

But Rousseff’s successor is threatened. Michel Temer takes little more than ten days in the Brazilian government and he must lament the fall of a man upon whom had bet on their success in a key position: Romero Juca, Minister of Planning, he decided to step aside temporarily from his post, after a conversation in which he cataloged the presidency Temer as a “national pact” TEMER is involved.

Brazil tighten their belts is what the markets want, but it may not be what Brazilians want. In fact, they might not want  Temer, and that would add chaos to a scenario already quite uncertain.

So get ready for an interesting summer. “

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